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Optimal level of government debt - matching wealth inequality and the fiscal sector

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  • Vogel, Edgar

Abstract

We calibrate an incomplete markets large scale OLG model to the US income and wealth distribution and examine the effects of alternative government debt levels and adjustment policies on macroeconomic aggregates and welfare. We find that the government should hold negative debt. Due to the high degree of wealth and income dispersion ex ante lifetime utility increases with increasing wages (falling interest rates) by around 6% of lifetime consumption at optimal debt levels. The optimal level depends on the adjustment policy can vary by up to 70% of GDP (between -180% and -110%). With lower government debt, high income/wealth agents are always worse off. Adjusting transfers benefits the lowest income/wealth group. The largest gains are, however, experienced by agents in the middle of the income/wealth distribution: they benefit from higher wages and transfers but do not lose too much capital income. JEL Classification: C54, D52, D6, E2, H2, H6

Suggested Citation

  • Vogel, Edgar, 2014. "Optimal level of government debt - matching wealth inequality and the fiscal sector," Working Paper Series 1665, European Central Bank.
  • Handle: RePEc:ecb:ecbwps:20141665
    Note: 850633
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    More about this item

    Keywords

    government debt; incomplete markets; redistribution; ricardian equivalence;
    All these keywords.

    JEL classification:

    • C54 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Quantitative Policy Modeling
    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • D6 - Microeconomics - - Welfare Economics
    • E2 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment
    • H2 - Public Economics - - Taxation, Subsidies, and Revenue
    • H6 - Public Economics - - National Budget, Deficit, and Debt

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